The German Act to Modernise the Law Governing Private Limited Companies and to Combat Abuse (MoMiG) came into effect on November 1st, 2008. Against the background of “competition of legal forms”, it aims at the strengthening of the competitiveness of the Gesellschaft für beschränkte Haftung (GmbH) in regard to the English private company limited by shares (Limited) by introducing a version of the GmbH which does not require any substantial minimum share capital. This paper aims to explain the characteristics of the ‘new’ GmbH in comparison to the Limited in order to facilitate a choice of legal form.

Table of contents

1. Introduction

2. Modernisation Act 2008

3. Unternehmergesellschaft (haftungsbeschränkt)

4. Improved Flexibility and Prevention of Abuse

5. Economic Analysis of the Choice of Corporate Vehicle

1. Introduction

Over the last decade, there has been substantial discussion in Germany on the import of foreign corporate legal forms, especially the Private Company Limited by Shares (Ltd.) incorporated under the laws of England and Wales, or of Scotland. In contrast to the German Gesellschaft für beschränkte Haftung (GmbH), UK company law sets the minimum capital for the Limited to one Pound Sterling. And whereas notarization of the articles of association is required under German law, no such form requirement exists for the Limited. Therefore, the formation of a Limited is faster and most notably cheaper than the formation of a GmbH. Due to the comparatively low cost of company formation in the UK and the free availability of web based services which help Germans to set up a Limited, this corporate vehicle has become more and more popular in Germany since the turn of the millennium. Previously, under German conflicts law, a UK Limited which had no business operation in the UK and which had registered headquarters in Germany was considered not to exist in a legal sense, so that it had no legal capacity, could not sue and not be sued. According to the so called seat theory, which was endorsed by the Bundesgerichtshof (Federal Court of Justice, BGH), German law was solely applicable for companies whose headquarters were in Germany. Thus, if a UK Limited failed to comply with the German formation regulations for a GmbH, its corporate form would not be recognized. Agents or shareholders of the Limited would thus be personally liable. In the cases of Centros (decision dated 09.02.1999) and Überseering (decision dated 05.11.2002), the European Court of Justice (ECJ) eventually forced the BGH to change its position. According to the ECJ, companies which were formed in one EC member state but conducted their operations in another EC member state, possessed legal capacity and could consequently also establish branch offices. The ECJ reasoned that the EC Treaty’s freedom of establishment requires all member states to fully acknowledge the legal capacity as well as the capacity to sue and to be sued of companies from other member states. In the case of Überseering, the BGH finally complied with the ECJ’s verdict and abandoned its registered office theory. Despite this new BGH ruling, some lower courts – such as the Amtsgericht (district court, AG) Hamburg (insolvency division) – continued to believe that the limited liability of a UK Limited was not to be recognized because the circumvention of domestic (i.e., German) formation rules amounted to an incorrect use of the legal form. But in the case of Inspire Art, the ECJ dismissed also this opinion. The decision stated clearly that it was no misuse to use a foreign (UK) corporate vehicle for establishing a business in the Netherlands in order to circumvent the national (Dutch) rules on company formation. The ECJ’s ruling depicts the great significance which is applied to the freedom of establishment according to European law as well as the enterprises’ transnational mobility within the European Union.

2. Modernisation Act 2008

The most comprehensive reform of the GmbH-Gesetz (GmbhG, German Law Pertaining to Companies with Limited Liability) since its creation in 1892 was completed on November 1st, 2008, when the Gesetz zur Modernisierung des GmbH-Rechts und zur Bekämpfung von Missbräuchen (MoMiG) came into effect. The MoMiG aims to deregulate and to improve flexibility, but also to prevent the abuse of corporate vehicles. This reform was doubtlessly triggered by the competition of other European legal forms after the above-mentioned decisions of the ECJ in Centros, Überseering and Inspire Art. In 2006, a first draft prepared by ministry officials (Federal Ministry of Justice, 2006) was published. It centered on the reduction of the GmbH’s minimum capital funds from 25,000 Euro to 10,000 Euro (Art. 1, no. 3 of the first draft). The resulting discussions led to several new drafts, ultimately incorporating very substantial revisions. At the centre of the 2008 Act is the creation of a special form of the GmbH, the so called Unternehmergesellschaft (haftungsbeschränkt) or (UG (haftungsbeschränkt) for short). The Act also includes in an annex a sample standard protocol for the formation of a GmbH. For Brigitte Zypries, at the time Federal Minister of Justice, the reform comes with great expectations: “With the conclusion of the long-awaited reforms, the Limited Liability Company Law has finally reached the 21st century. The competitiveness of the GmbH has been boosted especially in an international comparison. It is a modern, slim legal form for medium-sized businesses. Now, the Unternehmergesellschaft with its limited liability represents an additional version for new entrepreneurs on their way to set up a GmbH. The founding of a GmbH has not only become simpler, cheaper, and faster but overall, the new GmbH law is more modern and practical. Furthermore, we have increased the protection against abuse because the GmbH’s attractiveness as a legal form depends on the fact, that creditors are efficiently guarded in times of crisis and bankruptcy.”

3. Unternehmergesellschaft (haftungsbeschränkt)

As mentioned above, the UG (haftungsbeschränkt) was inserted into the GmbHG through the MoMiG. According to the wording of § 5a, para. 1 GmbHG, it is not a new legal form. The UG (haftungsbeschränkt) is a subset of the GmbH, with the effect that GmbH rules apply to the UG unless provided otherwise. The main distinguishing feature between the UG (haftungsbeschränkt) and the ‘regular’ GmbH, relates to minimum capital (§ 5, para. 1 GmbHG). Just one Euro suffices as a cash investment for the founding of an UG (haftungsbeschränkt). This minimum capital must be fully paid in cash before the company can be registered. In this, the UG (haftungsbeschränkt) shows clear parallels to the Limited. If the UG (haftungsbeschränkt) should bear the start-up costs, the capital must be sufficiently large to cover them, as otherwise the company would be overindebted, calling for insolvency proceedings.. The most obvious difference between the Limited and the UG (haftungsbeschränkt) is that the latter’s lack of capital is not intended to be permanent but accepted only for a transition period. The legislator intends the UG (haftungsbeschränkt) to continuously increase its capital until it eventually reaches the 25,000 Euro which are required for setting up a standard GmbH. Thus, § 5a, para. 3 GmbHG specifies that, in the annual statement, the UG (haftungsbeschränkt) has to build up reserves according to 25% of the annual profit. These reserves must not be distributed. They may be used only to cover an annual or accumulated deficit, or for recapitalisation. This obligation to accumulate reserves does not cease before the UG (haftungsbeschränkt) has reached the minimum capital funds according to § 5, para. 1 GmbHG. Although the UG (haftungsbeschränkt) is also a GmbH, it may not trade under this name. An UG (haftungsbeschränkt) may use GmbH as a legal company name once it has reached the minimum capital funds of a standard GmbH due to recapitalizations. It may, however, also decide to keep the legal company name of Unternehmergesellschaft.

4. Improved Flexibility and Prevention of Abuse

The introduction of the UG (haftungsbeschränkt) is not the sole purpose of the 2008 reform Act. It also introduces significant changes for the GmbH, as well as for the Aktiengesellschaft, the public corporate form. The above-mentioned introduction of a sample protocol for the notarized formation of a company, now contained in an attachment to the GmbHG, caters for simple cases with a maximum of three shareholders and one executive director. Standard articles of association as provided by the UK legislator for the Limited are now also available for somebody wishing to set up a GmbH. German law offers this sample Gesellschaftsvertrag so that prospective shareholders who are unfamiliar with the law now can easily settle the important points without requiring an individually drawn up contract. The new Act also legalises certain forms of cash pooling, used in groups of companies for handling excess liquidity. According to § 19 para. 5 GmbHG, an agreement between the company and one of its shareholders may allow the shareholder to pay up his contribution and then take it out again in the form of a loan. However, this shareholder will only be treated as having paid up his contribution if the company can effectively call back this loan at any time. Generally, at least half of the share capital must be paid up in order for a GmbH to be registered. As concerns GmbHs with a sole shareholder, the law previously required full payment (§ 7 para. 2 sent. 2 GmbHG). Now a sole shareholder is also given the option of paying up half, if security is provided for the remaining payment. Likewise, the previous obligation under § 19, para. 4 GmbHG, whereby all contributions must be paid fully up within one year if one shareholder acquires all shares, was also repealed. The newly inserted §55a GmbHG provides a statutory basis for authorized capital stock, whereby the articles of association can allow the directors for a period of up to five years to increase the company’s capital by issuing company shares for capital contributions. This transfer of shares, which only can take place if notarized or accredited by the receiving entity, has merely to be registered with the commercial register as an increase in capital funds. Previously, German law required a company to have its business headquarters at the registered seat (§ 4a, para. 2 GmbHG, and § 5, sent. 2 AktG). This requirement was repealed in the reform Act. As a result, German companies can now run their business from abroad, even if their registered seat is within Germany. Thus, the corporate vehicles of GmbH and AG could become for affiliate groups which have subsidiaries abroad.

5. Economic Analysis of the Choice of Corporate Vehicle

When comparing setting up a GmbH with setting up a Limited which is to operate in Germany, one has to distinguish between the old version of the GmbH (old Version; o.v.) and the version according to the MoMiG (new Version; n.v.), and also between the standard GmbH and the UG (haftungsbeschränkt), as shown as in table 1.

medium
high in UK context, but translations and notarization required in Germany

Costs (Especially Formation Costs)

high
legal advice and notarization

high
notarization

low
cost privileged

medium
low in UK context, but translations, notarization and duplicate register entry and accounting required in German context

Tab. 1: Comparison of the GmbHG with the Limited before and after the MoMiG

The decrease of the minimum capital of the UG (haftungsbeschränkt) to one Euro is most noticeable. This has to be considered when planning the capitalisation: if the company is to bear the formation cost, it would instantly become insolvent. If a company considers financing through bank loans or supplier credits, it has to be kept in mind that the choice of equity capitalisation is not being perceived as a neutral decision by business partners. In fact, they will have different information about crucial data (asymmetrical distribution of information). To put it simply, newly formed companies can be divided into good and bad ones, but the business partners will never know before to which group a specific company belongs (informational asymmetry). They will, hence, try to guess this hidden information on the basis of observed performances. Possibilities for this are offered by what in economic theory is called signaling and adverse selection. While the choice of a legal form with a high equity (GmbH) and the corresponding input of capital is being regarded as a positive signal by other market participants, the choice of a legal form with a low equity can be seen as the result of an adverse selection: at least in a German context, only founders who anticipate losses or who do not dispose of sufficient financial funds will choose a legal form with such a low equity base. Furthermore, the Limited’s transparency is generally lower, or at least perceived as being lower in a German context, and so it can also be the base for an adverse selection, as German shareholders who “have something to hide” will rather choose a Limited than a German corporate vehicle. If those who run a company are not personally liable, market participants are anticipating that they will possibly take higher risks. The competitiveness of the GmbH was considerably improved by the MoMiG’s regulations of the articles as well as the general managers’ appointment, which are a part of the sample protocol. Furthermore, it also contains the shareholders’ register. Though there were already standard forms before the MoMiG came into effect, they had no official character. Additionally, when using the sample protocol, the formation of an UG (simplified proceedings according to § 2, para. 1a GmbHG) is cost-privileged according to § 41d Gesetz über die Kosten in Angelegenheiten der freiwilligen Gerichtsbarkeit (KostO). Therefore, the formation costs are lower than those for a standard GmbH, and even lower than those for starting a Limited in Germany, because this entails translation and duplicate registration costs. Due to the described costs and uncertainties, the initial euphoria which surrounded the admission of Limiteds in Germany has noticeably declined. Through the UG (haftungsbeschränkt), the German legislator has created a legal form which presents especially for setting up businesses advantages in terms of flexibility and cost. Furthermore, the legislator has also introduced measure which can counteract the bad credibility rating which companies without a serious minimum capital have in the German public. The introduction of a long-term obligation to build up the company’s capital funds of one Euro to the height of the minimum capital of a GmbH correlates with this objective. Furthermore, due to the entrepreneur’s commitment, the choice of an UG (haftungsbeschränkt) can be seen as a positive signal. As a result, it can be expected that the UK Limited will lose its attractiveness and probably will disappear from economic life in Germany.

* Professor for Organisation and Management at accadis University of Applied Sciences, Dr. rer. pol. (Frankfurt am Main), Master of Science in Pharmaceutical Medicine (Witten/Herdecke), Diplom-Kaufmann (Frankfurt am Main), Certificate in Pharmaceuticals Law (Marburg). General Manager of the Institute for German, European and International Medical Law, Public Health Law and Bioethics of the Ruprecht-Karls-University of Heidelberg and the University of Mannheim. An earlier version of part of this article previously appeared as ‘Das GmbH-Recht nach dem MoMiG’,WiSt (2009) p. 560. I am grateful to all seminar participants who gave me comments and to Mrs. Heike Malone for her invaluable assistance. Furthermore, I am indebted to the editor for his great support.